A Demon of Our Own Design

Inside markets, innovation, and risk Why do markets keep crashing and why are financial crises greater than ever before? As the risk manager to some of the leading firms on Wall Street from Morgan Stanley to Salomon and Citigroup and a member of some of the world s largest hedge funds, from Moore Capital to Ziff Brothers and FrontPoint Partners, Rick Bookstaber has seen the ghost inside the machine and vividly shows us a world that is even riskier than we think. The very things done to make markets safer, have, in fact, created a world that is far more dangerous. From the 1987 crash to Citigroup closing the Salomon Arb unit, from staggering losses at UBS to the demise of Long-Term Capital Management, Bookstaber gives readers a front row seat to the management decisions made by some of the most powerful financial figures in the world that led to catastrophe, and describes the impact of his own activities on markets and market crashes. Much of the innovation of the last 30 years has wreaked havoc on the markets and cost trillions of dollars. A Demon of Our Own Design tells the story of man s attempt to manage market risk and what it has wrought. In the process of showing what we have done, Bookstaber shines a light on what the future holds for a world where capital and power have moved from Wall Street institutions to elite and highly leveraged hedge funds.

Inside markets, innovation, and riskWhy do markets keep crashing and why are financial crisesgreater than ever before? As the risk manager to some of theleading firms on Wall Street-from Morgan Stanley to Salomonand Citigroup-and a member of some of the world'slargest hedge funds, from Moore Capital to Ziff Brothers andFrontPoint Partners, Rick Bookstaber has seen the ghost inside themachine and vividly shows us a world that is even riskier than wethink. The very things done to make markets safer, have, in factcreated a world that is far more dangerous. From the 1987 crash toCitigroup closing the Salomon Arb unit, from staggering losses atUBS to the demise of Long-Term Capital Management, Bookstaber givesreaders a front row seat to the management decisions made by someof the most powerful financial figures in the world that led tocatastrophe, and describes the impact of his own activities onmarkets and market crashes. Much of the innovation of the last 30years has wreaked havoc on the markets and cost trillions ofdollars. A Demon of Our Own Design tells the story ofman's attempt to manage market risk and what it has wrought.In the process of showing what we have done, Bookstaber shines alight on what the future holds for a world where capital and powerhave moved from Wall Street institutions to elite and highlyleveraged hedge funds.

Preface ixAcknowledgments xviiAbout the Author xixChapter 1 Introduction: The Paradox of Market Risk 1Chapter 2 The Demons of '87 7Chapter 3 A New Sheriff in Town 33Chapter 4 How Salomon Rolled the Dice and Lost 51Chapter 5 They Bought Salomon, Then They Killed It 77Chapter 6 Long-Term Capital Management Rides the Leverage Cycle to Hell 97Chapter 7 Colossus 125Chapter 8 Complexity, Tight Coupling, and Normal Accidents 143Chapter 9 The Brave New World of Hedge Funds 165Chapter 10 Cockroaches and Hedge Funds 207Chapter 11 Hedge Fund Existential 243Conclusion: Built to Crash? 255Notes 261Index 273